Bagging bargains: the unexpected rise of the discount megastore

Royal Tunbridge Wells is for many the epitome of Middle England. Incomes and house prices in the Kent town are well above the national average. It is home to a John Lewis, supposedly the preferred emporium of the comfortably off.

But since last year, the shoppers of Tunbridge Wells have had another option, a large branch of B&M. The store, one of nine opened by the company between April and October, has one clear point of attraction: it is very cheap.

A branded mop set that sells for £25 on Amazon is £17. A set of stainless steel saucepans is half the price of a near-identical set at Argos. Hundreds of branded personal care products are available for less than they cost in mainstream stores.

“When I bought this business, I’d never have dreamt of opening a store in a place like that,” Simon Arora, chief executive of B&M, says of the new Tunbridge Wells store.

Although his family ran an import business, the 51-year-old Cambridge law graduate and former McKinseyite is far removed from the traditional image of discount stores — and increasingly, so are his customers.

“We used to stipulate that a potential location had to have a significant working-class catchment,” he says. “But the evidence shows that middle-class customers like bargains as much as working-class ones need them. We have stopped looking at socio-economic data now.”

It is a similar story in other parts of Europe and in the US, where Dollar General boss Todd Vasos recently told investors that newer customers “skew younger, higher income and more ethnically diverse”.

The expansion of these discount retailers has been accelerated by the coronavirus pandemic, but it is a trend that has been quietly building for over a decade.

More affluent consumers began embracing discounting in all forms after the financial crisis of 2008-09 as slowing wage growth put household budgets under pressure.

By 2018, almost 90 per cent of Americans earning between $50,000 and $100,000 a year said they shopped at “dollar stores” or off-price retailers like TJMaxx, according to a survey by the National Retail Foundation.

In the UK, the proportion of consumers in the most affluent socio-economic bracket who would consider shopping at somewhere like B&M or Home Bargains has risen from about 22 per cent at the end of 2015 to about 30 per cent now, according to a survey by YouGov.

Bagging bargains went mainstream. Since 2008, German supermarket chains Aldi and Lidl have expanded their market share from under 5 per cent to more than 13 per cent. Shopping centres that once courted Debenhams or Marks and Spencer as anchor tenants now beat a path to the doors of Primark or TKMaxx, the UK version of TJMaxx.

But the spread of “variety discounters” — which sell a carefully curated range of toys, stationery, homewares, personal goods and food at knockdown prices — has been particularly spectacular.

Helped by the collapse of chains such as Woolworths, Focus DIY and Toys R Us, B&M went from 21 UK stores in 2005 to 673 today, plus a subsidiary in France. Home Bargains, a similar UK format, also expanded rapidly.

Action, a European discount chain offering a similar range of products to B&M, which is owned by venture capital group 3i, went from 250 stores in 2011 to more than 1,500 now.

The rapid growth of these discount chains is even more remarkable given that almost every other section of physical retail is contracting.

Anna Thal Larsen, a partner in retail practice at consultancy Bain & Company, says that while lower prices were a key part of discounters’ appeal, they are not the only factor.

“It’s a simple experience, it’s relatively easy to shop,” she says. “What’s also driving the visit is this idea of the ‘treasure hunt’ — what deals are there this week or month?”

The companies are profitable and highly cash generative too. B&M has paid out almost £500m in regular and special dividends in the past year. Its market value is approaching twice that of M&S.

The Morris family, owners of Home Bargains, are worth more than retail tycoons Philip Green and Mike Ashley combined. Action has been described as “one of the best buyouts ever”, netting 3i and others more than 30 times their initial investment.

Yet this rise has attracted less attention than the growth of no-frills food retailers like Aldi, partly because it has not created clear losers. Variety discounters have taken small amounts of market share in a large number of sectors. “We’re nobody’s worst enemy,” says Simon Borrows, chief executive of Action owner 3i.

Humble beginnings

It was not always so. Steve Smith, a market trader’s son who founded the UK’s Poundland in 1990, says it was a struggle at the start to find brands willing to supply a discounter that sold every item in the store for £1.

“We once ordered 50,000 cans of WD40 [a popular household lubricant] at 82p a can,” he recalls. “It was far more than I’d normally order but I wanted to show I could shift the volume. We sold them very quickly, for 83p a can plus VAT [of 17p]”.

Andy Bond, chief executive of Poundland’s current owner, Pepco, says personal goods like deodorants and shaving cream were another starting point. “There was a grey market for [one-off] lots of excess products, sold cheaply on a ‘when it’s gone it’s gone’ basis,” he says. “But then [discount] retailers became more professional. They were known and trusted.” Brands who used to rely on Boots and the supermarkets for sales suddenly had an alternative.

The meagre £500 profit on Mr Smith’s first WD40 trade was worth it for the access it brought. “Gradually you go from dealing with the sales rep to the area manager. We ended up selling more WD40 than Halfords [a large retailer for auto parts].”

Initially, customers were in lower income groups and there was a certain stigma to shopping at a discounter. “We’d give people free carrier bags to help spread the word,” he says. “But as people left the store, they’d hide the Poundland bag inside an M&S or Debenhams one.”

As the appeal of discounters started to grow, they were increasingly taken over by bigger companies: B&M was acquired by the Arora family in 2005. The founders of Action sold to 3i in 2011. Mr Smith sold Poundland to private equity in 2002.

Such backers knew exactly how to run a rapid store expansion. “We have industrialised every single process,” says Mr Borrows. “It’s a cookie-cutter store rollout — we use the same four building contractors across the whole of Europe so we can get sites ready very quickly.”

Greater scale has made discounters impossible to ignore for the makers of large consumer brands. What started out, in Mr Bond’s words, as “an uncomfortable marriage” is now often a preferred relationship.

Many discounters, including Pepco and B&M, now have their own dedicated sourcing operations in Asia — meaning they deal with factories directly, not middle men.

Since they are among the few retailers still opening physical stores, they are popular with landlords. Mr Borrows says property owners were coming to them with multi-site offerings, adding that Action will open another 300 stores this year in countries including Italy and the Czech Republic.

Discount shops have become destinations in their own right, rather than feeding off the footfall generated by others. They increasingly appear on the periphery of town or city centres, where rents are cheaper and stock deliveries easier. “All they need to be is the right size with the garden centre prominent on a main road with free parking, and we’re off to the races,” Mr Arora told analysts in January.

In other sectors, notably casual dining, private equity owners have been guilty of overexpansion, resulting in a saturated market and a collapse in profits. But Ms Thal Larsen says there was no sign of this in discount non-food retail, although growth rates may moderate in coming years.

In the US, where the discounter format has been established for longer, store openings continue apace. Dollar General has 17,000 stores — equivalent to five shops for every 100,000 Americans — but nevertheless says it will open another thousand this year.

Even if B&M were to hit its medium-term target of 950 stores in the UK tomorrow, that would still only be 1.4 for every 100,000 Britons.

Discounters have been very disciplined in other ways. “To sell for less, you have to buy for less and operate for less,” notes Mr Bond. Ranges are kept narrow, marketing budgets are minimal and operations as simple as possible.

And there is still untapped potential in central, eastern and southern Europe. Mr Bond points out that Poland, the most important country for Pepco’s eponymous chain of apparel-focused stores, “is a completely different market to Germany”, because there are far fewer discount stores there, even though the countries are next door to each other.

Covid conundrum

Discounters have boomed in the era of coronavirus. Because they sell some food and personal goods, they have generally been allowed to remain open during lockdowns.

Dollar General sales beat Wall Street’s forecasts in its most recent quarter, while in the UK, B&M has upgraded its own profit expectations twice over the past year. The prospect of rising unemployment and squeezed wages in the coming years as the economic impact of the pandemic is absorbed also plays to their business model.

But the pandemic has also prompted more consumers to shop online, and the infrastructure needed for online ordering, home delivery and returns does not sit easily with the low price points and average basket sizes typical of discounters.

“The online model struggles to replicate the bargain hunt element and it adds cost and complexity,” says Ms Thal Larsen.

“[Discounters] are going to need to find some way to respond as the shift is absolutely clear and has been accelerated by Covid,” she adds. “It’s no longer true to say that discount shoppers don’t want to shop online.”

In public, executives stress that store rollouts remain the preferred route to sales growth. But behind the scenes, they are scrambling to work out how to make ecommerce pay.

Click and collect, which cuts out the cost of last-mile delivery and drives visits to stores, is likely to be the first step. Both Action and B&M are running trials in France.

“We’re developing a narrow catalogue of relatively high-value items where we can make sense of the fulfilment and logistics costs,” says Mr Borrows. “But I don’t think we’ll ever get to the point where the whole 5,500 product catalogue is online.”

Mr Arora says B&M is learning from its trial but played down any notion of a big change in strategic direction, while Mr Bond muses that minimum order sizes — at considerably higher levels than current average transaction sizes — might be a pre-requisite.

“If people are prepared to spend €50 it all becomes a lot easier,” he says.

This is exactly what Mr Smith has done. Users of his Poundshop.com website must spend a minimum of £30 and pay £4.95 for delivery. Home Bargains also offers online ordering and delivery, although it remains a small part of the overall business.

While they work on the ecommerce problem, discounters can at least look forward to recruiting more middle-class shoppers and opening more outlets.

“Our best store in the country opened in the quarter just gone,” Mr Arora told analysts. It was in the south of England and though he declined to name it, he professed himself “blown away with just how popular that store has been in a town where we thought they had probably never heard of B&M”.